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Calculating Returns on Mutual Funds

By Shlok Kamat

22nd Mar 2022

3 mins read

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The average retail investor often trusts (and is not wrong too) large asset management companies regarding investments. These AMCs have a colossal fund pool and often offer a multitude of investment schemes to their investors. Market veterans handle these funds providing a good level of certainty that ensures hard-earned money is in good hands. However, it’s still crucial to keep a keen eye on the performance of these funds.

The ups and downs of the market are almost guaranteed, and investors should often maintain a long term view. Returns generated by mutual funds vary depending on the risk factor, sectoral concentration and government regulations.

Most schemes available today offer two distinct routes of investing in them. The first route is the lump-sum or one-time investment option, and the other is the Systematic Investment Plan (SIP) route of investing. When one opts for the lump-sum route, calculating the return on investment (ROI) differs from the SIP route. These schemes declare returns in terms of a percentage. For instance, the Nifty 50 has given a return of  14.18% over the last 20 years. What is this 14.18%? How is it calculated?

Absolute Returns

It is easy to calculate absolute returns. All you need is the initial Net Asset Value (NAV) and the present-day NAV. NAV is nothing but the price of one unit of a mutual fund.

Here is the formula to calculate the absolute returns:

Absolute return = (Present NAV – Initial NAV) / Initial NAV × 100

So, if your initial NAV was 20 and the present NAV is 35, and you had stayed invested for seven months, the absolute returns would be 75%.

Absolute returns are often applied to investments with durations less than 12 months.

It is wise to use compounded annual growth rate (CAGR) to calculate returns for lump-sum investments over one year. The CAGR does not account for the ups and downs over the said period but instead gives an average annual rate of return.

Compounded Annual Growth Rate (CAGR)

Lets us take an example to understand this better:

Assume that you had invested ₹1 lakh in a mutual fund scheme in 2015. The initial NAV is ₹20. In 2021, i.e. after six years, the NAV has increased to ₹50.

  • CAGR = {[(Present NAV / Initial NAV) ^ (1 / number of years)] −1} × 100
  • CAGR = 35.72%

Calculating SIP returns can be a little tricky as each investment stays invested for different durations. So, using the above methods may not be a good fit. That is why we need to use XIRR. XIRR stands for extended internal rate of return. One need not do complex calculations to find the XIRR of their investment. Excel has made our lives easier to calculate the XIRR. One needs the following data points :

  • SIP Amount
  • Dates of SIP Investment
  • Date of Redemption
  • Redemption Amount

The XIRR(values, dates,..) formula can be used to calculate one's XIRR.

One must realise that calculating return on investments is exceptionally crucial for managing one's finances. Say Mr A invests in 8 different mutual fund schemes with CAGRs ranging from 6% to 15.72%, and his portfolio CAGR is 9.32%. On the other hand, Mr B invests in 4 mutual fund schemes with CAGRs ranging from 8% to 12.45%, and his portfolio CAGR is 10.88%. Mr B. regularly re-balances his mutual funds by buying more of his losers and selling some winners. He does this solely on annualised returns of the schemes. This results in a better CAGR and ultimately better returns.

So the next time you decide what to buy and sell during a dip, remember to analyse your current portfolio and adjust your investments accordingly.

FAQs

How to invest in mutual funds without a Demat account?

You may invest in mutual funds directly with the mutual fund house by visiting the branch of the AMC. You just have to fill up the application form and submit the self-attested identity and address proof for KYC compliance.

What are passive funds?

Passive funds track a benchmark index, say S&P BSE SENSEX. These funds aim to give returns corresponding to the index’s return subject to tracking error.

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Made with ❤️ in India